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Is Cotton Rally Vulnerable to Higher Planting Intentions

Wednesday, March 22, 2017

Today's Spotlight Market

Looking at the spread markets in Cotton futures we notice that bear spreading (selling front month futures and buying more deferred month futures) has been prevalent with the old crop May/Jul spread moving to an over 1.25 point contango (a market condition where more deferred contracts trade at a premium to closer to expiration months) from an small May premium since the middle of December. The old-crop/new-crop spread has also fallen with the May contract premium to the December futures falling from over 4.50 point premium to a 1.84 point May premium as of this writing.

Fundamentals

The Cotton market has been a favorite of commodity bulls so far in 2017 as surprising strong U.S. exports have supported prices this year. It appears that Cotton end-users have turned to the U.S. for supplies due to the high quality of this past season's crop. This has offset some of the negative sentiment from China where continued auctions of Cotton from state owned reserves was supposed to depress imports from the world's leading consuming nation. However, analysts note that the quality of Cotton being auctioned is poor which is forcing those needing better quality Cotton supplies to continue to import from the U.S. This unexpected demand has is keeping U.S. Cotton futures process supported with the new-crop December futures near contract highs. This upward trend has caught notice of large speculative accounts, especially trend following commodity funds, as prices moved higher. The most recent Commitment of Traders report shows non-commercial traders holding a net-long position in Cotton of over 130,000 contracts. This huge net-long positions has some analysts fearing a potentially large price correction should a bearish catalyst appear that forces a bout of long-liquidation selling to occur. With the USDA Prospective Plantings report due out a week from this Friday and with some estimates looking for U.S. producers to increase Cotton plantings due to attractive new-crop prices, the rally could be vulnerable to selling as weak longs are shaken out of the market.

Technical Notes

Looking at the daily chart for May Cotton futures, we notice prices moving back below the 20-day moving average and what may be interpreted as a possible head and shoulder top being formed. This technical formation is generally viewed as a bearish indicator. We also should note that there is a bearish divergence in the 14-day RSI ad this momentum indicator failed to not only make a new high when the recent highs were made earlier this month but also was beginning to trend lower when the new highs were made. The next major support level for the May contract is found at the February 17 low of 75.05, with chart resistance found at the contract high made on March 6 at 79.46.

Mike Zarembski, Senior Commodity Analyst